Europe’s central bank cuts rates to record low 1%

By: | 08 Dec 2011

The European Central Bank in Frankfurt has cut rates for a second month in a row, to 1%, in a bid to stave off recession, and support struggling businesses and embattled peripiheral eurozone countries.

Commenting after the decision on rates, new ECB president Mario Draghi (pictured) indicated the bank would not be significantly stepping up its buying of bonds.

He added: “The mechanism by which money is being channeled to the European countries should not obscure the fact we have a treaty which says ‘No money financing to governments’, so a respect of the spirit of the treaty should always be present in our minds.”

He added all European governments “urgently need to do their utmost” to enact fiscal sustainability. “This is the most important precondition for restoring the normal functioning of financial markets.

“Governments must specifiy and implement the necessary measures. To accompany fiscal consolidation the ECB Governing Council has repeatedly called for bold structural reforms which would strengthen confidence, growth prospects and job creation,” he said.

He noted real GDP in the bloc grew by 2% in third quarter, unchanged from the previous period, but “evidence points to weaker economic activity in the fourth quarter. A number of factors seem to be dampening underlying growth momentum,” he said.

“In the ECB Governing Council’s assessment substantial downside risk exists in an environment of high uncertainty. Downside risks relate to the further intensification of tensions in Europe’s financial markets and spill-over into the real economy.”

The decision today on rates was a 0.25% move downwards, to match the previous record low for the eurozone base rate. The cut also met expectations of all but three of 58 economists surveyed earlier by Bloomberg.

Draghi said eurozone inflation was likely to stay above 2% for “several months” off the back of elevated commodity prices, before falling below 2%.

He added the ECB Governing Council had decided to undertake a number of important measures to help businesses and to stabilise money market functions.

One is long-term loan provision to Europe’s non-financial corporates and households.

Draghi noted it did not seem the supply of credit to these sectors had been adversely affected this year to October, but close scrutiny was “warranted” in future.

The ECB has also decided to halve the current reserve ratio from 2% from January.

It will also increase the availability of collater to national central banks by reducing the rating threshold for some asset-backed securities, and allowing national central banks temporarily to accept additional performing bank loans, satisfying specific criteria, as collateral.

Among the ABS criteria to qualify are that they are rated at least A, and the underlying assets quaify for the Eurosystem credit operations. Non-performing loans and those that have been structured, syndicated or leveraged will not qualify.

The ECB also said it would “welcome wider use of credit claims as collateral in the Eurosystem’s credit operations” as long as criteria were harmonised. It called upon rating agencies, providers of rating tools, and commercial banks with their own ratings system to seek endorsement.